Transcript Chapter 19 Privatization and nationalization

A4
Privatization and regulation
David Begg, Stanley Fischer and Rudiger Dornbusch, Economics,
6th Edition, McGraw-Hill, 2000
Power Point presentation by Peter Smith
Nationalization and privatization

Nationalization
–

the acquisition of private companies by
the public sector
Privatization
–
the return of state enterprises to private
ownership and control
19.1
Natural monopoly
Price
occurs when there is an industry with such economies of scale
relative to market demand that only one firm can survive.
The monopoly would produce
where MC=MR, with output
Qm and price Pm.
The firm makes profits
as shown.
From society's point of
view the optimum position
LAC
LMC is at PcQ',
DD where MSB = MC.
Pm
Pc
MR
Qm
Q'
Quantity
but the monopoly would make
a loss if forced to produce at
this point, with LAC > AR.
19.2
Natural monopoly (2)
Price
Alternative pricing policies:
Pc
(1) Average cost pricing:
Firm sets P=LAC at point G;
deadweight loss reduced
to GHE.
(2) Two-part tariff:
Firm makes a fixed charge
G
LAC
to cover the loss made by
LMC producing at Q' (the pink
E
DD rectangle), and a variable
MR H
charge related to marginal
Q'
Quantity
cost.
19.3
Nationalization

Another possibility is to nationalize
the industry and provide a subsidy to
cover the loss
–

as was popular in Europe in 1945-80
If nationalized industries make
losses, this does not prove they are
failing to minimize costs or produce
at the socially efficient output
–
but incentives may be a problem.
19.4
Reasons for nationalization


Natural monopoly
Externalities


Equity or distributional consequences


e.g. subsidizing public transport (London
Underground) may be a second-best option to
road pricing.
e.g. protecting transport in rural areas
Co-ordinating a network

e.g. British Rail could have an overview of the
whole rail system
19.5
Reasons for privatization

Improve incentives for production
efficiency
–
–
–

makes managers accountable to
shareholders.
but sheltered monopolies will be sleepy
no matter who owns them
so privatization will be most successful
where there is potential for competition.
Pre-commitment by government not
to interfere for political reasons
19.6
Privatization in practice



At 1997 prices, almost £67billion was
raised in revenue from privatization in
1980-97.
In terms of widening share ownership,
effects were limited
The Private Finance Initiative (PFI) is
claimed as an innovative way of drawing
on private-sector expertise to finance and
manage public projects such as roads and
hospitals.
19.7
Regulation


Privatization does not remove the need for
regulation
In the UK, regulation has been through
price-capping
–
privatized industries are not permitted to raise
prices beyond RPI-X


I.e. real prices must fall.
Regulatory capture occurs when the
regulating body comes to identify with the
interests of the firm it regulates
–
eventually becoming its champion rather than
its watchdog.
19.8